“The market now acknowledges the benefits of cleared markets”

CCP12 is a global association of clearing organizations and CCPs. The members “work together on issues of mutual interest and benefit to minimise global systemic risk and enhance the efficiency and effectiveness of international markets.” CCP12 has just published a report on Incentives for central clearing and the evolution of OTC derivatives.

We spoke to Teo Floor, Systemic Risk Policy Advisor at Eurex Clearing and Vice Chairman of the executive committee of CCP12, and Peter Lin?, Eurex CCP Risk Manager at Eurex Clearing, about the paper.

CCP12 has been looking into the incentives of central clearing and the evolution of OTC derivatives. Why now?

The Derivatives Assessment Team (DAT) of the Financial Stability Board published their final report “Incentives to centrally clear over-the-counter derivatives” in November 2018, providing a comprehensive overview on the effects of regulatory initiatives coming into effect after the great financial crisis in 2008. These reforms have been enacted as a direct result of policy statements from the G20 after the meeting in Pittsburgh 2009. Global standard-setting bodies were tasked to create safer, more transparent and fairer financial markets, for instance by promoting central clearing.

While acknowledging the great work that was done by the DAT, we felt that CCP12 as a global CCP organization could add additional content to this very important topic. Furthermore, we wanted to explain how financial markets have have changed over the last years due to regulation and to highlight key differences between cleared and uncleared markets.

What are your key findings?

The CCP12 report?shows that clearing rates for many products are steadily growing. This is especially true for interest rate derivatives and credit products. Through our case studies, we were able to highlight why the market is increasingly choosing to clear products without clearing mandates; the market now acknowledges the benefits of cleared markets. Initially some banks argued that regulation would make trading too expensive and that trading volumes would decline Volumes are increasing throughout financial markets even after stricter regulation, which shows that trading was not reduced due to stricter regulation. Therefore, we were able to show that the currently on-going regulatory initiatives did not harm the market as a whole.

The report shows the increased trade procedural costs of uncleared markets as a result of mandatory collateral exchange between bilateral counterparties having to cover the actual risks of trading derivatives. Costs of clearing now compare favorably with uncleared markets. Compared to the scalable CCP model we think that it will become market best-practice for many products to be moved to cleared markets as the default choice.

However, some currency and OTC option markets still remain mostly uncleared, which indicates that current clearing incentives are insufficient for them. Further studies on the root cause of this are required. Additionally we found that post-trade transparency needs further improvements for uncleared markets to achieve better understanding about the effects of regulation.

What was the most outstanding outcome for you?

We were able to demonstrate the complexity of uncleared markets by comparing procedures between cleared and uncleared markets through the different stages of trading. With current regulatory initiatives, it will become much more challenging and costly to remain bilateral. Therefore, we expect more companies to consider clearing their trades, as the CCP model is truly scalable and safe. This was a significant finding as staying uncleared is often misunderstood as the cheaper and easier option.

Looking at the regulatory landscape, what needs to be done next?

Regulation created safer markets by increasing transparency, fighting the “too-big-to-fail” dilemma, promoting central clearing and reducing complexity. Most of the regulatory initiatives that started in 2009 are still in the process of being implemented over the next years by most jurisdictions. It is important that this is done with global alignment. It is essential that regulation is implemented holistically and with as few exemptions as possible. Only then will we see a truly level playing field between cleared and uncleared markets.

There are still areas that need regulatory review. This becomes clear when looking at clearing rates for currency products and OTC options. Additional incentives might be needed to transform these markets and increase safety. Market transparency is another very important part of regulation; studies like this would not be possible without data. While CCPs aligned to provide detailed quantitative disclosures, the uncleared market remains opaque in large parts of the world, making holistic studies still impossible. We would appreciate further focus on more post-trade transparency.

Could you share a few insights about CCP12 as an association?

CCP12 is a global association of 36 members who operate more than 50 individual CCPs across Europe/Middle East/Africa (EMEA), the Americas, and the Asia-Pacific (APAC) regions. CCP12 aims to promote effective, practical and appropriate risk management and operational standards for CCPs to ensure the safety and efficiency of the financial markets they represent. CCP12 leads and assesses global regulatory and industry initiatives that concern CCPs to form consensus views, while also actively engaging with regulatory agencies and industry constituents through consultation responses, forum discussions and position papers.

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